BANKING SECTOR REFORMS IN INDIA:
~ India had an extremely regulated system of banking.
~ This system suffered from various draw backs.
~ To overcome these draw backs, various reforms were undertaken in two phases.
~ As a result, India achieved stability and efficiency in the banking system.
*CAUSES OF REFORMS:
~ A highly regulated banking system had various drawbacks like lack of competition, low capital base, inefficiency and high intermediation costs.
~ Thus, the depositors and borrowers were highly dissatisfied.
~ More over, after the nationalisation of banks in 1969, the pre-dominance of the public sector increased leading financial repression.
~ Also modern technology had no place in the banking system and the quality of service was inadequate.
~ Improper risk management systems and weak prudential standards gave rise to poor asset quality and low profitability.
~ In order to improve the adverse condition of the then existing banking system, various reforms were introduced since 1991.
~ These reforms were carried out in two distinct phase.
*FIRST PHASE OF BANKING SECTOR REFORMS:
~ These reforms were carried out on the recommendations of the NARSHIMAM COMMITTEE (1991:Part 1)
~ These reforms can be categorised as:
2)Operational Flexibility Measures.
3)Competitive Efficiency Measures.
4)Legal Environment Measures.
5)Customer Services and Priority Sector Lending Measures.
~ These measures help the bank to strengthen itself to face the fluctuation in the economic environment.
~ These measures comprise the following reforms:
# Capital adequcy:
~ The ratio of minimum capital to risk assets is called the CAPITAL ADEQUACY RATIO.( CAR)
~ The CAR has been increased to 9%. At present almost 78% banks have a CAR above 10%.
~ This improves the trust and confidence of the banks in the eyes of the depositors.
# Prudential Norms:
~ These norms were initiated by the RBI to bring professionalism in commercial banks.
~ They include asset classification, income recognition and provision for bad debts.
~ These norms ensure the presentation of accurate financial position of banks as per international accounting practices.
~ These norms were more helpful to nationalised banks.
~ It made it possible for nationalised banks to raise funds through public issues.
# Transparency and Disclosures:
~ These norms ushered in more transparency and disclosure in published account.
2)OPERATIONAL FLEXIBILITY MEASURES:
~ These norms provided flexibility to banks in their functioning. They include the following measures:
# Reduction of SLR and CRR:
~ The CRR ratio was reduced considerably from 15% (1991) to 6% (2010).
~ Similarly the SLR ratio was also reduced from 38.5% to 25%.
~ These reduced ratios enable the bank to release more funds for commercial lending (Loans & Advance)
# Deregulation of Interest Rates:
~ This norm gave banks the freedom to fix their:
^ Prime lending rates (excluding export credit).
^ Variable interest rates on all deposits (except savings deposits)
# Setting-up Subsidiaries:
~ Banks are encouraged to set-up their subsidiaries.
~ This helps to diversify activities like mutual funds, venture capital, merchant banking, housing finance etc.
~ This increases the profit margin and consolidates the bank’s position in the financial market.
# Freedom of Operation:
~ Banks were allowed to open new branches and upgrade extension counters.
~ They are also permitted to close down non-viable branches (except in rural area).
3)COMPETITIVE EFFICIENCY MEASURES:
~ These measures improve the competitive efficiency of banks.
~ These measures paved way for private sectors and foreign banks to enter the banking business.
~ The government’s share holding in the nationalised banks was considerably brought down to 51%.
4) LEGAL ENVIRONMENT MEASURES:
~ These measures provided legal assistance to the banking system for quick recovery of dues.
~ The RBI set up Debt Recovery Tribunals to provide a mechanism to recover loans.
~ Also, a High Power Committee was form to suggest appropriate foreclosure laws.
5) CONSUMER SERVICES AND PRIORITY SECTOR LENDING:
~ Banks are suggested to provide at least 40% of lending to priority sector.
~ However, priority sectors have been redefined and subsidy has been reduced.
~ Banking Ombudsman Scheme was introduced for quick settlement of customer disputes.
* SECOND PHASE OF BANKING SECTOR REFORMS:
~ These reforms are being carried out on the recommendations of NARSHIMAM COMMITEE II (yr 1998).
~ The following reforms have been undertaken:
1) NEW AREAS FOR BANK FINANCING: These include
– Credit cards – asset management
– Leasing – investment banking
– Infrastructure financing – factoring etc.
2) INSTRUMENTS FOR ENHANCED FLEXIBILITY AND BETTER RISK MANAGEMENT:
– forward rate agreements – cross currency forward contracts
– interest rate swaps – liquidity adjustment facility
-forward cover to hedge inflows (FDIs)
3) UPGRADED TECHNOLOGY INFRASTRUCTURE FOR PAYMENTS AND SETTLEMENTS:
~ Electronic fund Transfer.
~ Centralized fund management system.
~ Negotiated dealing system.
~ Structured Financial messaging solution, etc.
~ Real Time Gross Settlement system (RTGS).
4) ADOPTION OF GLOBAL STANDARDS:
~ Introduction of risk based supervision of banks.
~ basel II Norms.
5) CREDIT DELIVERY MECHANISMS:
~ Increase flow of credit to priority sectors.
~ Definition of priority sector widened.
6) RISK MANAGEMENT SYSTEM IN BANKS:
~ Setting up of Risk Management Committees.
~ Specialised committees monitor various risk like credit risk, operational risks, market risks, etc.
7) FOREIGN DIRECT INVESTMENT:
~ The limit for foreign direct investment in private banks has been increased to 74%.
~ 10% capital on voting rights has been removed.
8) UNIVERSAL BANKING:
~ Universal banking refers to the combination of commercial banking and investment banking.
~ It includes a vast range of other financial services beyond commercial banking.
~ They include insurance, leasing, investment advisory etc.
9) MANAGEMENT OF NPAs:
~ The enactment of securitisation, Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 is an important step in the banking sector.
~ It led to setting up of asset management companies and enhancing of creditor rights.
~ An asset management company is authorised to acquire the NPAs of the banks.
~ In case of NPAs, a secured creditor can serve a notice to the borrower to discharge the liabilities within 60 days, failing which, he is entitled to take over the possession/management of secured assets.
~ Several institutional measures have been initiated to contain the level of NPAs, like:
^ Corporate Debt Restructuring (CDR)
^ Debt Recovery Tribunals (DTRs)
^ Lok Adalats.
10) MERGERS AND AMALGAMATION OF BANKS:
~ RBI has issued guidelines for mergers and amalgamations of private sector banks.
~ These guidelines cover details regarding:
^ Process of merger proposal
^ Determination of swap ratios.
^ Disclosures and norms buying / selling shares by the promoters before / during the process of merger.
11) MANAGERIAL AUTONOMY FOR PUBLIC SECTOR BANKS:
~ The Government of India has issued a managerial autonomy for public sector banks. (Feb 2005)
~ This enables them to compete with private sector banks.
~ Public sector banks are allowed to:
^ Explore new lines of business.
^ Make suitable acquisitions.
^ Close or merge unviable branches.
^ Open branches abroad.
^ Set up subsidiaries.
^ Exit from an existing line of business.
^ Decide human resource issues.
12) ANTI-MONEY LAUNDERING GUIDELINES:
~ In recent years, prevention of money laundering has assured greater importance.
~ In Nov 2004, RBI revised Know Your Customer (KYC) guidelines.
~ Banks have to frame their policies within the network of KYC guideline. They relate to customer acceptance, customer identification, risk management and monitoring transaction.
13) APPLICATION OF INFORMATION TECHNOLOGY: (IT)
~ There is increased use of IT in banking.
~ Banks have introduced various facilities like:
^ Online Banking
^ Internet Banking
^ Telephone Banking, etc.
14) CUSTOMER SERVICES:
~ These measures improve customer service of commercial banks.
~ They include:
^ Banking Ombudsman.
^ Customer Service Committee of the Board.
^ Credit Card Facilities.
^ Settlement of claims of deceased Depositor.